How Can a Charitable Trust Help You Reduce Taxes While Supporting the Causes You Care About?

Did you know that certain charitable trusts can help you reduce taxes, generate retirement income, and help you support your favorite charities?

For individuals and families with substantial assets, charitable giving can be much more than simply writing a check to a favorite organization. With the right estate planning strategies, you may be able to support charitable causes while also creating an income stream for yourself or transferring wealth to future generations.

Two strategies worth considering are Charitable Remainder Trusts (CRTs) and Charitable Lead Trusts (CLTs). Although both involve charitable giving, they accomplish different financial and estate planning objectives.

What Is a Charitable Remainder Trust?

A Charitable Remainder Trust (CRT) is an irrevocable trust specifically authorized by the Internal Revenue Code. It allows you to transfer assets into a trust while retaining an income stream for yourself or another designated beneficiary.

The income payments can continue for your lifetime, the lifetime of another beneficiary, or a specified period of up to 20 years. When that period ends, the assets remaining in the trust pass to one or more designated charities.

What Are the Benefits of a Charitable Remainder Trust?

A CRT can provide several significant financial and estate planning benefits:

1. Reduce capital gains taxes: Highly appreciated assets, such as real estate, stocks, or business interests, can generally be sold inside the CRT without the trust immediately paying capital gains tax on the sale.
2. Generate an income stream: The proceeds from the sale can be reinvested to provide income to you or another beneficiary.
3. Receive a charitable income tax deduction: When you establish and fund a CRT during your lifetime, you may qualify for an income tax deduction based on the present value of the assets that will eventually pass to charity.
4. Reduce estate taxes: Assets transferred to the CRT may reduce the value of your taxable estate.
5. Provide for charities: When the trust ends, the remaining assets benefit the charitable organizations you selected.

It is important to understand that while a CRT generally does not pay capital gains tax when it sells appreciated assets, the tax is not necessarily eliminated. Payments received by the income beneficiaries may be subject to income tax.

Example: Turning Appreciated Real Estate Into Retirement Income

Imagine John owns commercial real estate worth $1 million. The property has appreciated substantially, and selling it personally would trigger significant capital gains taxes. Instead, John establishes a Charitable Remainder Trust and transfers the property into the trust. The CRT sells the property without immediately paying capital gains tax on the sale. The proceeds are then reinvested to generate income.

John structures the trust to pay him 5% of the initial trust value annually for the remainder of his life. This provides him with approximately $50,000 per year in income. When John passes away, the remaining assets in the CRT are distributed to the charities he designated. John may also receive a charitable income tax deduction when he initially funds the trust.

What Are the Two Types of Charitable Remainder Trusts?

There are two primary types of CRTs:

Charitable Remainder Annuity Trust (CRAT): This trust pays a fixed dollar amount to the income beneficiary at least annually. For example, the trust might provide $50,000 each year for the beneficiary's lifetime, regardless of changes in the trust's investment value.

Charitable Remainder Unitrust (CRUT): This trust pays a fixed percentage of the trust's value, which is recalculated annually. For example, if the trust provides a 5% annual distribution, the amount paid to the beneficiary may increase or decrease depending on the trust's investment performance at the end of the trust term.

Both types ultimately distribute the remaining trust assets to the designated charitable beneficiaries.

What Is a Charitable Lead Trust?

A Charitable Lead Trust (CLT) essentially reverses the structure of a Charitable Remainder Trust.

Rather than providing income to an individual first and leaving the remainder to charity, a CLT provides payments to charity for a specified number of years. When that period ends, the remaining assets pass to designated family members, such as children or grandchildren.

A properly structured CLT can be an effective way to transfer substantial wealth to future generations while reducing or potentially eliminating estate and gift taxes on the transfer.

How Does a Charitable Lead Trust Work?

Consider a married couple who want to support a charitable organization while eventually passing substantial assets to their children. They establish a Charitable Lead Annuity Trust (CLAT) as part of their estate plan. Upon the end of the trust’s term, the remaining assets in the trust are transferred to their children or grandchildren.

During the couple’s lifetime, the trust makes a fixed annual payment to their selected charity for a predetermined number of years. When the charitable payment period ends, the remaining trust assets pass to their children or grandchildren, either outright or in continuing trusts established for their benefit.

If the assets appreciate significantly during the trust term, the amount ultimately passing to the family may be substantially greater than the original contribution. CLTs can be particularly attractive for assets expected to increase significantly in value, including real estate and interests in family-owned limited liability companies.

Families may also consider naming a private family foundation as the charitable beneficiary, allowing children or grandchildren to participate in charitable activities and develop a shared sense of purpose. However, careful planning is necessary because retaining too much control over charitable distributions can create adverse tax consequences.

Charitable Remainder Trust vs. Charitable Lead Trust: Which Is Right for You?

The primary difference comes down to who receives the financial benefits first.

Who Should Consider a Charitable Trust?

Charitable trusts may be particularly valuable for individuals and married couples who have substantial estates, own highly appreciated real estate or business interests, want to generate income from existing assets, or wish to leave a meaningful charitable legacy.

For families who want to benefit both charitable organizations and future generations, these trusts can offer opportunities that traditional outright charitable gifts may not provide. However, because CRTs and CLTs are irrevocable and involve complex tax considerations, they should be carefully coordinated with your overall estate plan and financial objectives.

Incorporating Charitable Giving Into Your Estate Plan

Charitable giving and thoughtful estate planning do not have to be competing goals. With the right strategy, you may be able to support the organizations that matter most to you while preserving income, reducing taxes, and creating a meaningful legacy for your family.

At Geiger Law Office, P.C., we help individuals and families explore sophisticated estate planning strategies designed to protect wealth and accomplish their long-term goals.

If you own substantial or highly appreciated assets, we invite you to contact our office to schedule a consultation at (760) 448-2220 or at https://www.geigerlawoffice.com/contact.cfm to explore whether a Charitable Remainder Trust, Charitable Lead Trust or other advanced estate planning strategies may be appropriate for your estate plan.