Are you a multitasker? If so, you may appreciate an estate planning technique that can convert assets into a stream of lifetime income, provide a current tax deduction and leave the remainder to your favorite charity — all in one fell swoop. It’s the aptly named charitable remainder trust (CRT).
CRTs have been around for decades, and they continue to be a viable estate planning strategy in the wake of the Tax Cuts and Jobs Act (TCJA) and other recent tax legislation.
A CRT in action
For starters, you can set up one of two CRT types (see “2 types of CRTs”) and fund it with assets you own. The trust then pays out income to the designated beneficiary or beneficiaries — for example, the trust creator or a spouse — for life or a term of 20 years or less. Alternatively, if certain requirements are met, you can choose to have income paid to your children, other family members or an entity.
If it suits your needs, you may postpone taking income distributions until a later date. In the meantime, the assets in the CRT (ideally) continue to appreciate in value.
Typically, a CRT is funded with income-producing assets, such as real estate, securities and even stock in your own company. (Note: S corporation stock can’t be used for this purpose.) These assets may be supplemented by cash deposits or the transfer can be all cash.
When you transfer assets to the CRT, you qualify for a current tax deduction based on several factors, including the value of the assets at the time of transfer, the ages of the income beneficiaries and the Section 7520 rate. Generally, the greater the payout, the lower the deduction.
Because the TCJA limits certain itemized deductions and increases the standard deduction, consider transferring assets in a year in which you expect to itemize. Furthermore, the deduction for appreciated assets is typically limited to 30% of your adjusted gross income (AGI). However, if the 30% of AGI limit applies, you can carry forward the excess for up to five years.
A matter of control
An important decision relating to a CRT is naming the trustee to manage its affairs. The trustee should be someone with the requisite financial acumen and knowledge of your personal situation. Thus, it could be an institutional entity, a family member, a close friend or even you.
Because of the significant dollars at stake, many trust creators opt for a professional, perhaps someone who specializes in managing trust assets. If you’re leaning toward this option, interview several candidates and consider factors such as experience, investment performance and level of services provided.
If you decide to take on the task yourself, consider using a third-party professional to handle most of the paperwork and provide other support. Frequently, a CRT is supplemented by another trust or a life insurance policy to “make up the difference” to children when the remainder goes to charity.
During the CRT’s term, it’s the trustee — not the charity — that calls the shots. The trustee is obligated to adhere to the terms of the trust and follow your instructions. Thus, you still maintain some measure of control. In fact, you may retain the right to change the trustee if you become dissatisfied or designate a different charity to receive the remainder assets.
Is a CRT right for you?
The short answer is that it depends on your specific circumstances. Be aware that a CRT is irrevocable. In other words, once it’s executed, there’s no going back and you can’t make other changes. So, you must be fully committed to this approach. Contact your estate planning advisor for additional details.
Sidebar: 2 types of CRTs
There are essentially two types of charitable remainder trusts: the charitable remainder annuity trust (CRAT) and the charitable remainder unitrust (CRUT). No matter which version you use, the income beneficiary must be entitled to annual payments for his or her lifetime, or for a fixed period of no more than 20 years. In addition, other tax law requirements apply.
With a CRAT, the income beneficiary receives a fixed amount of income year in and year out, regardless of the investment performance of the trust assets. Those who have already retired and want the security of a known income amount often prefer this method. The trust is usually funded with securities and cash.
Tax law requires the fixed payments of a CRAT to equal no less than 5% of the initial value of the trust assets.
Unlike the CRAT, which pays out a fixed amount, CRUT payments are based on the investment performance of the underlying assets. Therefore, the amount of your annual income will fluctuate year to year. With a CRUT, a payment of a percentage of not less than 5% of the value of the trust assets must be paid each year.
In either event, a trust won’t qualify as a CRT if the annual payout exceeds 50% of the value. Furthermore, it must be clear that the charity is expected to receive at least 10% of the donated assets.