Tuesday, 25 June 2024

Estate planning: Charitable Remainder Trusts

Charitable Remainder Trusts (CRTs) are legitimate tax shelters that are a win-win for taxpayers and their charities. They allow people with charitable objectives to diversify their assets inside a tax-free environment.

Diversification allows income streams to be created – by selling assets and investing the proceeds for income – in a tax-efficient manner. What remains (at least 10 percent of what was contributed) at the end goes to the charity of choice. Let us examine how this works.

You begin by selecting the type of CRT that works best for you, based on the type of asset you will contribute and your future income needs.

Broadly speaking, there are two types: the annuity trust (CRAT) or the uni-trust (CRUT). They differ in their payout schemes.

The CRAT pays the same amount each year based on a percentage of the CRAT’s “initial value.” CRATs guarantee you the same amount each year. The annuity percentage varies between 5 percent and 50 percent, depending on the CRAT’s term.

A CRUT, however, pays a percentage of the annually “recomputed value” (i.e., the uni-trust percentage times uni-trust new value).

The payout varies each year based on the investment performance of the trust and the cumulative effect of prior years’ withdrawals. The CRUT has two main variations that allow for non-income or low income producing assets to be held without requiring distributions until such year as income is generated.

The CRT is irrevocable – it cannot be amended or revoked (except sometimes under limited circumstances). The CRT document determines (amongst other things) who is the noncharitable beneficiary (usually yourself and your spouse), how long the trust will last (i.e., your lifetimes or for a fixed term up to 20 years), who is trustee (usually yourself) and the charitable remainder beneficiary.

At termination, the charity must receive at least 10 percent of the initial value. A taxpayer identification number is obtained and assets transferred to the trustee. A qualified appraisal may be needed to determine an asset’s value.

In the first year you enjoy an immediate income tax charitable deduction. The amount is the so-called present value of the “remainder interest” left to charity.

For example, if you contribute $500,000 in assets into a CRT that donates 20 percent to charity at the end of a 10-year term then the remainder is the present value today of $100,000 to be received in 10 years time discounted using the applicable federal interest rate. The tax savings today can be used to fund other present investments, including annuities and life insurance.

If you contribute appreciated assets and the CRT sells them then – because the CRT is a tax-exempt charitable trust – the CRT itself is not subject to capital gains taxes. Likewise, if you contribute retirement funds the CRT does not pay ordinary income taxes and can reinvest these funds. Instead, these taxes are postponed over the CRT’s term. That is, as distributions are made to the noncharitable beneficiary (e.g., you) the previously unrecognized income is included in earnings.

The advantages to the taxpayer here are that, first, the CRT gets to reinvest money that otherwise would have been paid out in taxes upon the sale of appreciated assets or the receipt of retirement plan funds; second, the taxpayer gets to include smaller additions to your annual income instead of a big addition that might push you into a higher tax bracket; and, third, some of the income to be included in later years may be offset by other tax losses or taxed in years with less income (e.g., retirement years).

Lastly, CRTs may either be established by you during your life or by your will to take effect after you die for the benefit of your loved ones (e.g., your children).

Editor’s Note: Dennis A. Fordham is an attorney licensed to practice law in California and New York. He earned his BA at Columbia University, his JD at the State University of New York at Buffalo, and his LLM in Taxation at New York University. Dennis concentrates his practice in the areas of estate planning and aspects of elder law. His office is at 55 1st St., Lakeport. He can be reached by e-mail at This email address is being protected from spambots. You need JavaScript enabled to view it. or by phone at 707-263-3235.

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