For those small business owners who want to keep more of their money and invest in a good retirement plan, a tailored qualified plan may be the answer. The main (and most crucial) difference between qualified and non-qualified plans is that their contributions are income tax deductible and allows you to enjoy tax deferral on any money invested. However, qualified plans can also be useful in achieving another financial goal in retirement: maximizing charitable giving and minimizing its ensuing tax implications. If you want to make the most of your charitable donations from your qualified plans, you have a few options.

What Is A Qualified Plan?

Simply put, a qualified plan meets the requirements of the Employee Retirement Income Security Act of 1974 (ERISA). Those that are self-employed do not qualify for ERISA regulations, but they can still set up a qualified plan to benefit from the qualified business income deductions. The idea behind opting for a qualified plan is that you get to keep more of your money and pay less in income taxes. For instance, in a construction business, you may be able to deduct the cost of builders' assurance coverage. If you run an LLC or sole proprietor, you can deduct the premiums you pay for workers’ compensation. However, the use of a qualified plan can also allow you to benefit from further tax deductions. While the customization of your qualified plan can depend on factors like the structure of your business or ownership details, the plans can include a Simplified Employee Pension (SERP) and Savings Incentive Match Plan for Employees (SIMPLE).

Give To Charities Using Qualified Charitable Donations (QCD)

Using qualified charitable donations, you can give to charity directly from your retirement account (IRA) and exclude it from your Adjusted Gross Income (AGI). This means you are able to give the entire withdrawal to the charity and forfeit paying any income tax. There are a few caveats. For instance, the exemption applies to those who are 70 and ½ years or older. There is also a limit of up to $100,000 per year.

You can make qualified charitable distributions directly to an eligible charity from a traditional or inherited IRA, an inactive Simplified Employee Pension (SEP) plan, or an inactive Savings Incentive Match Plan for Employees (SIMPLE) IRA. While there are clear benefits to the use of qualified charitable donations to maximize your charitable giving, it is important to take the time to consider whether this is the right move for you as a donor. For example, are you sure you would not like to make your contribution to a donor fund? Donor funds are exempted from qualified charitable donations.

Think About Bunching Your Charitable Donations

As a business owner, your income levels can fluctuate over the years and so can the tax implications. In this case, bunching your donations in high income years can minimize this. The Tax & Jobs Act passed in 2017 increased both the standard deduction and itemization threshold. Because of this, many people will now miss out on itemizing unless they bundle their donations for multiple years.

Donation bunching is a well-known tax-saving strategy that combines donations for multiple years into one year. This allows you to itemize the deduction in the year you make the donation and also enjoy the standard deduction in the following years. In other words, combine your donations for multiple years so that your donation is enough to be itemized instead of using your standard deduction. The standard deduction for 2023 has been set as $13,850 for single individuals and $27,700 for joint applicants.

Consider Giving To A Donor Advised Fund (DAF)

As of 2022, there were almost 1.3 million donor-advised funds (DAFs). According to the rules of DAFs, an active charitable organization that has been classified by the IRS as a public charity and has a 501(c)(3) designation can receive funds from a donor-advised fund. If you contribute to a DAF, you can receive a tax deduction which in turn will reduce your tax liability for that calendar year. According to the San Diego Foundation, you can deduct your donor-advised gift up to 60% of your adjusted gross income as a donor. The use of a DAF can also eliminate capital gains tax on the appreciation of long-term assets.

To open a DAF, you must first make a cash, non-cash, or asset contribution to a chosen donor fund. At this time, you should qualify for a tax deduction once your gift has been made. Your donor will appreciate, free of gains tax, while you decide on which organizations you wish to grant to. There are rules to DAF contributions, however. For instance, once gifted they cannot be taken back. Also, donors cannot benefit from the DAF grant making.

If you have questions or want to increase your charitable donations, it may be advisable that you speak to your tax advisor to identify the right tax strategy for your goals.