Do you have a sale of real estate or a business that will result in you owing capital gains tax? Consider setting up a Charitable Remainder Trust (CRT). Would you rather pay taxes and send your hard-earned money to the government? Or use that same money to provide yourself with a lifetime of income and support your favorite charity simultaneously?
CRTs can benefit everyone involved. You can make a charitable gift to your favorite charities while generating an extra income source for the beneficiaries. They are not for everyone, so call us today to see if one fits into your estate plan.
How It Works
A Charitable Remainder Trust (CRT) is a “split-interest” trust, which provides financial benefits to the charity and the non-charitable beneficiary. The non-charitable beneficiary can be your spouse, child, another heir, or even you.
When you set up a CRT, you name a trustee, an income beneficiary or beneficiaries, and a charitable beneficiary. Then, you’ll contribute your appreciated asset to the CRT, and the trustee will sell, manage, and invest the asset(s) to produce income paid to the non-charitable beneficiary. Donating appreciated assets to a charitable remainder trust can avoid capital gains tax by receiving a charitable deduction. Because usually, the sale of these assets would generate capital gains taxes.
After the sale of the appreciated assets, the cash generated is invested by the trustee, and the non-charitable beneficiary receives income from the trust, which is paid out either annually, semiannually, quarterly, or monthly, depending on how the trust is set up.
And if income is not paid out, it can accumulate in the trust and not be subject to income tax, resulting in further value growth. Then, at the end of the non-charitable beneficiary’s life, whatever assets “remain” (hence the name “remainder” trust) pass to the charity or charities named in the trust.
The trustee can be yourself, a charity, another person, or even a third-party entity. To ensure your wishes are carried out properly, it’s a good idea to choose a trustee with experience with financial management and trust administration. Since the trustee (if it’s not you) is not only responsible for seeing that your wishes are properly carried out but also for managing the trust assets in accordance with complex state and federal laws,
You can use the following types of assets to fund a charitable remainder trust:
- Publicly traded securities
- Some types of closely held stock (Note that CRTs cannot hold S-Corp stock)
- Real estate
- Certain other complex assets
Types of Charitable Remainder Trusts
There are two main types of charitable remainder trusts, both based on your options for how the trust income is paid out.
Charitable Remainder Annuity Trusts (CRATS)
You can choose a Charitable Remainder Annuity Trust, which pays an annual fixed payment to the beneficiary. With this option, the income payments from the trust will not change, regardless of the trust’s investment performance. Additional contributions to the trust are not allowed with this type of trust.
Charitable Remainder Unitrust Trusts (CRUTS)
The beneficiary of a Charitable Remainder Unitrust is paid a fixed percentage of the trust’s assets, and the payouts fluctuate depending on the trust’s investment performance and value. Unlike CRATS, making additional contributions with this type of trust is allowed.
Charitable Remainder Trusts Tax Benefits
CRTs come with significant tax breaks since they are used to reduce taxes. As mentioned earlier, you can take a partial income tax deduction within the year the trust was created for the value of your donation.
The amount of this deduction is based on the trust’s type and term, the projected income payments to the charitable beneficiaries, and interest rates set by the IRS, which are determined based on the growth rate of trust assets. Your deduction is limited to 30% of your adjusted gross income. And if the donation exceeds that limit, you can carry any excess into subsequent tax returns for up to five years.
The trustee of a charitable trust doesn’t have to pay capital gains taxes on the profits from appreciated assets sold while in the trust. And when the trust finally passes to the charity, there won’t be any estate tax costs for that donation to worry about either. If you have the means and desire to set up such a trust, it can be quite beneficial for all parties involved.
Note that the beneficiaries will pay income tax on income from the CRT at the time it’s distributed. Whether that tax is capital gains or ordinary income depends on where the income came from—distributions of principal are tax-free.
Don’t Go It Alone
CRTs come with very specific and complex requirements surrounding their creation, operation, and the responsibilities of the trustee, so if you are considering setting up a CRT, it’s vital that you consult with a lawyer experienced with such trusts.
To this end, if you have highly appreciated assets you’d like to sell while minimizing tax impact, maximizing income, and benefiting charity, contact us so we can determine the best way to achieve your charitable objectives while maximizing your tax-saving and other financial benefits.
This article is a service of Greg Gordillo, Family Business Lawyer™. We don’t just draft documents; we ensure you make informed and empowered decisions about life and death for yourself and the people you love. That’s why we offer a Family Wealth Planning Session™, during which you will get more financially organized than you’ve ever been before and make all the best choices for the people you love. You can begin by scheduling a Family Wealth Planning Session via our online scheduler and mention this article to find out how to get this $750 session at no charge.