Roth IRA Conversions: An Alternative Route to Better Giving

For many donors interested in making an impact with their favorite causes may not realize the variety of means by which to give  beyond sending a check to their nonprofits of choice.

However, there are numerous channels, financial instruments and assets available. Many “complex” assets can be utilized by a donor if they were only aware of the opportunity. A complex asset is a non-cash financial asset that cannot be easily turned into cash  or publicly traded. Examples include real estate , closely held shares (S-corp, C-corp, LLPs, etc.), artwork, crypto, and a variety of other choices.

Coupled with a variety of financial instruments such as donor advised funds and Roth IRAs can allow a donor to engage in better giving:

• Donor advised fund (DAF): This is a financial account operated by a public charity exclusively for the purpose of charitable giving. A donor funds the account, earns a variety of tax benefits, and is able to make grants to their chosen causes over a time period convenient to them.

• Roth IRA: This is an IRA that allows a holder to pay taxes on contributions upfront.

For those with a traditional IRA, converting to a Roth IRA may be ideal for the following reasons:

• Tax-free withdrawals in retirement: This is the single biggest reason for a Roth conversion. With a traditional IRA, every dollar you withdraw in retirement is taxed as ordinary income. With a Roth IRA, once you've met the qualified distribution rules (age 59½ and the account has been open for at least five years), all withdrawals—from both contributions and earnings—are completely tax-free.

This provides incredible flexibility in retirement. You can withdraw money from your Roth IRA to cover expenses without worrying about it increasing your taxable income, potentially keeping you in a lower tax bracket for other income sources like Social Security or a pension.

• Tax diversification in retirement: Most retired people will have a mix of income sources in retirement, some of which are taxable (pension, Social Security, traditional IRA withdrawals) and some that aren't. A Roth IRA gives you a source of tax-free money that you can tap into strategically.

As example, if you face a large, unexpected expense during a year when your taxable income is already high, you can withdraw funds from your Roth IRA. This helps you avoid pushing yourself into a higher tax bracket, which can save you a significant amount on your overall tax liability.

• Avoid Required Minimum Distributions (RMDs): Traditional IRAs force you to start taking withdrawals—known as Required Minimum Distributions (RMDs)—at age 73 (for those born in 1951 or later), even if you don't need the money. These RMDs are taxable and can push you into a higher tax bracket or increase your Medicare premiums.

Roth IRAs do not have RMDs for the original account owner's lifetime. This means you can let the money continue to grow tax-free for as long as you live, providing more flexibility and control.

Roth IRAs can also prove to be a powerful tool in estate planning.

How Can DAFs and Roth IRAs Work Together?

Nearly 15 years ago, the $100,000 Modified Adjusted Gross Income (MAGI) limit on Roth IRA conversions was lifted. And yet, Roth IRA holders today are still resistant to convert because of concerns regarding tax liability.

A donor can establish a donor advised fund as a companion to the converted Roth account and fund the DAF with cash or a variety of appreciated traditional or complex assets that they may have outside of the conversion assets. The income tax deduction on the DAF contribution offsets the increased tax liability resulting from the Roth conversion.

Inversely, many donors support numerous organizations and give enough that they cannot use their full tax benefit of their gifts in that year.

Consequently, the donor may need to carry forward those deductions. This circumstance may create an ideal opportunity to convert a standard IRA to a Roth IRA without a tax liability by using the charitable carry forward deductions.

Next Steps

Analyzing if the circumstances are correct to warrant a conversion to a Roth IRA and a companion DAF can be a complicated process. Involving a tax professional is crucial and so is partnering with Generosity Nexus. We bring our expertise to the table, analyzing your assets and giving wishes and then coordinating with your tax and estate advisors to ensure a smooth, error-free process.

Don’t hesitate to schedule an appointment to learn more about how we can help you.