How to Use a Charitable Remainder Trust
Introduction
Many years ago, when I used to be a pastor, one day I was working in my office and a person came in to chat with me for a bit. We sat down and after catching up for a few minutes she showed me this big manila envelope that she had with her. She opened it up and handed me a stack of papers. The papers were the estate plans of a former member of that church. She told me that our mutual friend decided to leave her entire estate to the church and that for the next few months there would be a substantial amount of money coming to the church. I was amazed and thankful for such a generous gift. For months, the leadership teams at the church discerned how to best use this wonderful gift. So much good came as a result of that gift.
Estate planning is a multifaceted process that allows individuals to not only leave a legacy for their heirs, but also to support philanthropic endeavors they believe in. Within this sphere, there exists a financial instrument known as a Charitable Remainder Trust (CRT) that seamlessly blends the principles of wealth transfer and charitable giving. This blog post delves into the uses and advantages of establishing a CRT.
What is a Charitable Remainder Trust?
At its core, a Charitable Remainder Trust is an irrevocable trust designed to reduce taxable income of individuals by first dispersing income to the beneficiaries of the trust for a specified period and then donating the remainder of the trust to the designated charity. There are two main types: the Charitable Remainder Annuity Trust (CRAT) and the Charitable Remainder Unitrust (CRUT).
CRAT (Charitable Remainder Annuity Trust): Provides a fixed annual income to beneficiaries, which is a predetermined fixed dollar amount.
CRUT (Charitable Remainder Unitrust): Offers a fixed percentage of the initial amount of the trust or of its annual valuation.
Uses of Charitable Remainder Trust:
Tax Management: CRTs are a powerful tax management tool. When assets are transferred to the trust, the grantor can claim a charitable income tax deduction based on the present value of the future charitable gift. Additionally, assets within a CRT grow tax-free, allowing for higher potential growth and income distribution. Here are the IRS’ rules on CRTs https://www.irs.gov/charities-non-profits/charitable-remainder-trusts
Bypass of Capital Gains Tax: Assets, such as stocks or real estate, that have appreciated in value can be placed in a CRT and then sold by the trust without incurring capital gains taxes. This allows the full market value of the assets to be reinvested.
Income Generation: One of the primary reasons’ individuals set up CRTs is to turn a valuable asset that isn’t producing much income (like raw land) into a stream of income. When the asset is sold within the trust, no capital gains tax is paid at the time of sale. The full sales proceeds remain in the trust, which can then be invested to produce an income stream for the beneficiaries.
Charitable Giving: By its design, the CRT serves philanthropic interests. Once the trust terminates (after a set period or upon the death of the last beneficiary), the remainder of the assets in the trust go to the designated charity or charities. This ensures that your philanthropic goals are achieved. It’s a testament to one’s values and priorities, ensuring that charitable giving can continue even after one’s lifetime.
Estate Planning: Since the CRT is irrevocable, assets placed in the trust are removed from your estate, potentially reducing estate taxes upon death.
Diversifying Investments: Suppose an individual holds a significant portion of their wealth in a single stock or asset. By placing the asset in a CRT, the trustee can sell the asset tax-free and reinvest the proceeds in a diversified portfolio, thereby spreading risk.
Example:
Say you care deeply about a non-profit organization. Over your lifetime you’ve been generous and shared with that non-profit through your income and made other gifts along the way. Let’s say you also purchased a rental property a long time ago and you no longer want to manage that asset, perhaps its become to much work. You’d like to sell that property. Although you care for the non-profit, you also still need to benefit from the income of the asset, so you are worried about donating that entire gift to the non-profit directly or to a Donor Advised Fund. Instead a great option in this scenario may be to create a Charitable Remainder Trust. You can transfer the deed to the newly formed CRT, take an immediate tax deduction, sell the property and avoid capital gains tax, reinvest the sale of the property into other securities and create an income stream while you are alive to help you pay your bills. After a certain period of time elapses or your death, the remainder of the assets pass to the charity of your choice. A CRT can be a helpful tool as you build out an estate and charitable plan.
Conclusion:
A Charitable Remainder Trust serves as an epitome of how strategic financial planning can not only benefit individuals and their heirs, but also society at large. Through tax-efficient mechanisms, income generation, and the promise of a lasting charitable impact, CRTs offer a multifaceted solution for those looking to make the most of their assets.
However, it’s crucial to note that the establishment and management of a CRT require careful planning and adherence to IRS regulations. If you’re considering setting up a CRT, it’s essential to consult with legal and financial professionals who are well-versed in trusts and estate planning to ensure your objectives are met in the most effective manner.
