Congress altered the tax code in 1969 to allow for the creation of a new form of trust that has certain tax advantages. It is called the Charitable Remainder Trust (CRT). Let’s take a closer look at this type of trust.
A CRT is a way of designating certain of your assets to go to charity when you die, while still being able to manage them and draw income from them during your life.
When you place assets into a CRT, you can name yourself as the trustee. For the ultimate beneficiary, you designate one or more non-profits. During the life of the trust, you may change your mind about this and change the beneficiary or beneficiaries. You may not change your mind about the trust entirely though, as it is irrevocable once established.
For the present, you name an additional beneficiary or beneficiaries to whom you then can disburse income from the trust. Most commonly, this beneficiary is you. Or it can be you and your spouse. Occasionally people name their children or grandchildren or someone else as the beneficiaries to receive income from the trust.
Income can either be disbursed “for life” from the trust until you die, or you can designate that it be disbursed for a specific number of years up to twenty years. At least 10% of the value of the contributions to the trust must remain in the trust to be disbursed to the designated non-profit beneficiary when you die.
There are two ways to establish how the amount to be disbursed as income each year is determined. With a Charitable Remainder Annuity Trust, it is based on the initial value of the trust. For example, you might set it at 7% per year. If the initial value of the trust were $1 million, that means you (or whomever you designate as the beneficiary) would receive $70,000 per year from the trust.
With a Charitable Remainder Unitrust, it is based on the current value of the trust, and thus can go up and down from year to year. For example, you might set it at 6% per year. If the trust is worth $1 million the first year, you would receive $60,000 in income from it that year. If it rises in value to $1.2 million the second year, you would receive $72,000 in income the second year. If it then drops in value to $1.1 million the third year, you would receive $66,000 the third year. And so on.
The minimum income you can disburse each year is 5%. However, if you don’t wish to take out the full amount designated for a given year, you are allowed to defer receiving the income and let it accumulate for a future year.
The main reason people establish CRTs is that they are a way of giving money to charity that generates significant tax advantages.
CRTs help with capital gains tax in that whatever assets you contribute to the trust are exempt from capital gains tax for any appreciation in value, both before and after. That is, if you purchase a security for $50,000, it rises in value to $350,000, you place it in a CRT, and it rises in value further to $550,000, both the $300,000 appreciation in value before the donation and the $200,000 appreciation in value after the donation are exempt from any capital gains tax.
In addition, you receive a tax deduction for assets contributed to a CRT, the amount of which varies with an Internal Revenue Service (IRS) formula based on how much is expected to be disbursed from the trust during your lifetime and how much is expected to be left over for charity.
Finally, money in a CRT does not count as assets when it comes time to calculate any estate tax on your estate.