Charitable Remainder Trusts
Imagine realizing income, gift and estate tax savings through the use of a single planning strategy. The Charitable Remainder Trust (“CRT”), also known as a Wealth Accumulation Trust, provides just such an opportunity. If you have a desire to participate in a charitable giving program, you should seriously consider implementing a CRT.
WHAT IS A CRT?
A CRT is a trust established to provide one or more beneficiaries with a present income interest, and remainder interest to a specified charity. After a set term, the income interest ends and the trust property passes to the charity. Under the Federal tax laws, all assets transferred to charity are exempt from gift and estate tax. You will also be able to claim an income tax charitable deduction when you create the CRT.
ANNUITY TRUST OR UNITRUST?
A CRT may be established as a Charitable Remainder Annuity Trust or a Charitable Remainder Unitrust. Both types require income payouts at least annually to the income beneficiaries for a term of years, no more than 20, or for the life of you, your spouse, or other persons you might so designate. Both trusts also require a rate of return of no less than 5%, and not more than 50% annually. Both trusts additionally must have a minimum 10% remainder interest value, which the charity will receive. However, the similarities end there and the differences begin.
It may be helpful to think of the annuity trust as one that provides a fixed annuity to its income beneficiaries while the unitrust provides a form of variable annuity. With an annuity trust, the return is a fixed amount of not less than a 5% return, calculated on the initial net fair market value of the assets transferred to the trust. The annuitant must be paid out of principal if the trust income is insufficient to meet the payout requirements.
In contrast, the unitrust percentage return is fixed at not less than 5%, but the annual payout is calculated on the basis of the value of the trust assets as determined annually. In other words, the beneficiary has what amounts to a variable annuity. If the trust assets are in stocks or bonds, for example, the annuitant’s payments may fluctuate with portfolio values. And payouts from a unitrust are limited to income only. Consequently, any shortfall between the required payout and the actual payments must be made up in later years in which there is more than enough income to meet the payout requirements.
An additional difference concerns subsequent contributions. With the annuity trust, subsequent contributions of assets to the trust are not permitted after the initial contributions. Conversely, subsequent contributions are permitted to unitrusts on specified terms and contributions.
CRT TAX ADVANTAGES
Significant income tax advantages are available with a CRT. First, you are allowed a current income tax deduction for the present value of the interest that will ultimately pass to the charity if the gift into the CRT is made during your lifetime. Second, since the trust qualifies as a charitable trust, generally income flows into the trust tax free. However, as you probably can guess, income distributed out of the trust to a noncharitable beneficiary will be taxed at the beneficiary’s normal tax rates. And finally, capital gains realized on the sale of appreciated assets during the trust term are deferred as long as they continue to be held in the trust.
The CRT also furnishes substantial gift tax savings. All gifts made to qualified charities are exempt from gift tax. Likewise, a lifetime gift of a charitable remainder interest in a CRT is exempt from gift tax, regardless of the value of the gift.
Estate tax savings are also enjoyed where assets are placed into a qualified CRT. The value the trust property as of the date of your death is fully deductible from your estate. The result of this is to reduce the taxable portion of your estate and, therefore, the overall estate tax bill.
VARIATIONS ON THE CRT THEME
CRT + ILIT: Depending upon the people involved and the size of the estate, it has been our experience that children often are not too fond of their parents’ charitable aspirations. For obvious reasons, there is a conflict of interest between gifts to charity by a parent and a child’s interest in receiving as large of an inheritance as possible. In order to overcome the family stress created by such charitable gifts, another estate planning tool is used in combination with the Charitable Trust to provide for the children’s lost inheritance. That estate planning tool is the Irrevocable Life Insurance Trust (“ILIT”). Once the charitable remainder trust has been set up and the annuity or unitrust payment is being received by you, as the trust beneficiaries, you can use a portion of the income to make gifts to an ILIT which in turn purchases life insurance on your lives for the benefit and use of their children. Therefore, it is possible to purchase enough life insurance (generally equal to the fair market value of the property contributed to the Charitable Remainder Trust) to replace the children’s inheritance with proceeds from life insurance.
CRT + FLP = CRRIT: The Charitable Remainder Unitrust may be combined with a Family Limited Partnership to form a highly attractive and effective wealth planning tool we refer to as a Charitable Remainder Retirement Income Trust, or CRRIT. The CRRIT’s purpose is to act as a vehicle for accumulating taxdeferred retirement income. If the CRRIT is properly implemented, you may avoid the contribution and sponsorship limitations imposed on traditional plans such as the IRA, 401(k), Keogh, and other qualified retirement plans.
A CRT is an extremely versatile and effective tool which may form an integral part of an overall wealth accumulation and preservation plan; helping you to achieve substantial tax savings and charitable giving goals, and enhance your ability to accumulate taxdeferred retirement income. At Gerrard Cox Larsen, we would be pleased to explain how a CRT, properly structured, can be implemented to meet your goals.