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Charitable Remainder Trusts
A charitable remainder trust allows one or more noncharitable
beneficiaries to receive designated annual payments during their
lifetime or during a fixed term of years (up to 20 years). The annual
payments to the noncharitable beneficiaries must be at least 5% of the
value of the trust's assets, they cannot exceed 50%, and the present
value of the amount going to one or more qualified charities must be at
least 10% of the amount contributed. Upon the death of the life
beneficiary or beneficiaries, the remainder of the trust passes to one
or more charitable organizations.
Grantors of charitable trusts can be the life or term beneficiaries. If
established during the grantors' lifetime, the grantors are entitled to
a charitable deduction for the present value of the remainder interest
(which is calculated according to the IRS tables based on the grantors'
life expectancies or the term of the trust, current interest rates, and
the rate used to calculate annual payments for the life or term
beneficiaries.
There are two types of charitable remainder trusts: charitable remainder
annuity trusts (CRAT's) and charitable remainder unitrusts (CRUT's).
CRAT's provide for fixed payments regardless of asset valuation
fluctuations, and CRUT's allow for payments that can increase with
inflation and provide flexibility for the timing of income payments.
Charitable remainder trusts are tax exempt, so the trust itself does not
pay any income taxes, even as to retained income. The life or term
beneficiary is taxed on income distributed to the beneficiary.
Highly appreciated assets are often contributed to charitable trusts in
order to eliminate potential capital gains tax that will become due when
the asset it sold. This can be an "income maximizer trust".
For example, rental properties having a current fair market value of
$1,000,000 and a cost basis of $50,000 are contributed to a charitable
trust. When the properties are subsequently sold, the capital gain tax
of some $266,000 has been avoided inside the charitable trust, leaving
more proceeds available to generate the income necessary to pay the life
or term beneficiary.
Charitable remainder unitrusts can serve as a quasi retirement plan. A
trustee can defer some of the annual payments in the early years of the
trust by investing in high-growth, low-income assets. When the life
beneficiary has a greater need for income, the trustee can invest in
assets producing a higher income yield. Under the 1997 Taxpayer Relief
Act, the present value of the charitable remainder must have a present
value (determined under IRC Section 7520) equal to ten percent of the
amount contributed. Because of this, middle-age and younger
beneficiaries qualify only for a 20-year term rather than a lifetime
term, making this technique less attractive.
"Income Maximizer Trust" and the "Wealth Replacement
Trust"
A charitable trust can be an "income maximizer trust", but the
trust's assets eventually pass to one or more charities, and there is
nothing that passes to children or other noncharitable beneficiaries.
For many people, the "lost" wealth can be replaced by
purchasing life insurance with the savings that result from the income
tax deduction and from the additional income that results from a
tax-free sale of appreciated assets inside the trust.
If the insurance is purchased by the trustee of an irrevocable life
insurance trust, the insurance proceeds are not taxable for estate tax
purposes. The insurance trust becomes a "wealth replacement
trust", allowing the children or other beneficiaries to receive
benefits after all.
The combination of a charitable remainder trust with an irrevocable life
insurance trust is one of the most popular planning techniques,
particularly for those who have highly appreciated assets that would
otherwise generate significant capital gain taxes.
Multi-Generational ("Near Zero") CRUTs
At one time, it was possible to provide for distributions from a
charitable remainder unitrust (CRUT) to parents for a term and then to
their children for their lifetime. This was done in a way that the
gift-tax value of the children's benefit was "near zero", and
it was frequently set up so that the distributions to parents were
minimized, increasing the benefit to the children. Due to the
regulations proposed by the IRS in April of 1997 this technique does not
work well, if at all.
Charitable Lead Trusts
In very large estates, the 55% estate tax can result in the liquidation
of hard-to-sell assets (such as family businesses), often resulting in
"fire-sale" prices which reduce even further the net
distribution to the family or other beneficiaries. Estate liquidation
can result in losses that make the estate tax seem like 65% to 80% or
more (instead of the actual rate of 55%).
A charitable lead trust is a trust for a term of years, and during the
trust term a specified annual payment (based on a percentage of the
trust assets) is paid to one or more designated charitable
organizations. Children or other beneficiaries are designated as the
remainder beneficiaries who will receive the trust assets at the end of
the trust's term.
The creation of a charitable lead trust results in a gift to the
noncharitable remainder beneficiaries based on the present value of the
remainder interest. That value -- which is determined from the IRS
tables -- depends on the term of the trust and the rate or amount of the
specified payment going to the charitable organization(s). It is
possible to design a charitable lead trust that provides a small value
or even a zero value for the remainder interest.
Although the specified payments are made to one or more charities during
the trust's term, the asset itself is preserved for the children. While
the children may have to wait 5, 10, 15, or even 20 years in order to
benefit from the trust's assets, it is often the best way to pass some
assets to the children without the combined effects of estate taxes and
asset liquidation costs. The longer they wait, the lower the value of
the remainder interest is for gift tax purposes.
 
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