Charitable Remainder Trust: Everything You Need to Know

Ever since the implementation of the Tax Reform Act of 1969, many people and families have begun setting up Charitable Remainder Trusts (CRTs) in order to save money on taxes and to have their money be used for the greater good of the world and the community around them.

If you’re looking for ways to reduce the amount you pay on taxes while donating money to causes that you care about, keep reading. I’m going over what a Charitable Remainder Trust is, how they’re created, and how they can benefit you.

What Is a Charitable Remainder Trust?

A CRT is a specific type of trust that allows people to give money, property, and/or assets to charities while continuing to receive income from that property for up to 20 years or for life.

Another important point with CRTs is that they’re a type of irrevocable trust. This means that once the trust is set up and created, the terms of the trust cannot be changed, modified, amended, or terminated without the permission of the beneficiaries named by the grantors.

In this type of trust, the people donating the money are called grantors. The grantor and/or the named beneficiaries of the trust, called the Income Beneficiaries, are set up to receive either fixed or variable distributions from the trust annually.

The charities named in the trust, called the Remainder Beneficiaries, receive any assets that are remaining in the trust once the trust ends.

The grantor also gets an income tax deduction for the remainder interest, can either defer or completely avoid capital gains tax on donated assets, and can get gift and/or estate tax deductions on remainder interest as well.

How Do You Fund a Charitable Remainder Trust?

A CRT can be funded with almost all types of assets. However, minimum distributions to income beneficiaries are required annually, so many find it preferable to use cash and other marketable securities.

Charitable Remainder Trusts and Taxes

One of the main motivators for people to set up Charitable Remainder Trusts is the tax deductions and savings that they can bring to grantors and their beneficiaries:

Trust Is Tax-Exempt

In general, CRTs are tax exempt. Even though these trusts are only partially charitable, they are usually considered wholly tax exempt. As long as the trust aligns with all IRS rules, you’re in the clear!

So, for example, let’s say a grantor wants to transfer their highly appreciated property to a CRT.

The trustee can then, in turn, sell the property and invest the proceeds without dealing with capital gains tax or other relevant taxes.

There are exceptions to the tax exemption, so be sure to speak with a trusted financial professional to make sure you’re following all guidelines and regulations.

Trust Distributions Are Taxable

In general, trust distributions from CRTs are taxable to the recipient. The type and amount that’s taxes depends on where the payout money is coming from.

Income Tax Deduction

Contributions to qualified charities are tax deductible as long as those taxpayers itemize.

Deductions are available on tax years when contributions are made. Any unused portions can be carried over to the next five tax years.

If contributions are tangible pieces of personal property (think art pieces, rare collectibles, etc) or would result in short-term gains if sold, then deductions may be limited,

Gift and Estate Taxes

Gift and estate taxes will apply on payouts to any income beneficiaries who are not grantors themselves or are not married to the grantors.

Advantages and Disadvantages of CRTs

CRTs are a great way for certain taxpayers to generously donate some of their assets while also benefiting from tax savings.

Some advantages of CRTs for grantors include:

Getting to give to charities of your choice
Receive income for life or for up to 20 years
Tax savings and deductions
Reduce and/or completely eliminate gift taxes, capital gains taxes, and/or estate taxes
Less focus on managing financial assets

Amongst all of those benefits, there are some disadvantages to keep in mind:

CRTs are irrevocable: terms of the trust are generally unchangeable
Donating assets to charity means fewer resources and assets for your partner, spouse, parents, and/or other heirs

How Is a Charitable Remainder Trust Created?

CRTs are created in two unique ways:

1. Inter Vivos

Inter vivos CRTs are established and funded during the life of the grantor. These types of CRTs are usually used to give the grantor and their family income security during their life.

2. Testamentary

Testamentary CRTs are funded at the time of the grantor’s death via a living trust or a will. These types of CRTs are primarily used to benefit heirs and reduce the grantor’s taxable estate & assets. These are also often used when the grantor has no heirs or beneficiaries to name.

What Are the Two Types of Charitable Remainder Trusts?

Generally, there are two distinct forms of CRTs:

1. Charitable Remainder Annuity Trust (CRAT)

A Charitable Remainder Annuity Trust (CRAT) allocates annual income distributions to income beneficiaries at a percentage of the initial net fair market of the assets used to fund the trust. This percentage at absolute minimum is 5 percent. This percentage can increase until it reaches a maximum of 50 percent.

A CRAT payout is always a fixed amount based on that percentage. CRATs are in effect until the time of the grantor’s death at which time the rest of the funds are donated to the pre-arranged charity. You may not add additional contributions to a CRAT once it’s been created.

Here’s an example of a CRAT:

The grantor is an 80-year-old widow with no heirs who owns property with a net fair market value of $1 million, most of which is real estate with a cost basis of $250,000.

Grantor is in relatively good health, and is planning to move to an assisted living facility. If the grantor sold her property, income tax would be due on the gain at a 15 or 20 percent tax rate.

Instead, the grantor creates a CRAT, naming her husband’s alma mater as charitable beneficiary. The details of this CRAT are as follows:

Trust Term: 20 years
Funding Amount: $1 million
Growth of Trust: 5.5%
Annuity Payout Rate: 5%
IRS Discount Rate: 3%
Annual Amount to Grantor: $50,000 Paid Quarterly at End of Period
Gift to Charity: $1,138,384
Income Tax Deduction: $247,794

2. Charitable Remainder Unitrust (CRUT)

Unlike a CRAT, a Charitable Remainder Unitrust (CRUT), has a variable annual payout. Also unlike a CRAT, a CRUT payout is equal to a percentage of the current fair market of the assets in the trust. This percentage’s minimum for a CRUT is also 5 percent. The maximum is 50 percent.

With a CRUT, assets are revalued each year in order to determine the payout. If principal increases, so does the payout. If principal decreases, so does the payout.

A CRUT is usually preferred by younger grantors since they’re better able to risk reductions in payouts in hopes for higher returns later.

Also unlike a CRAT, contributions to a CRUT can continue after it’s been created.

Here’s an example of a CRUT:

Grantors are a married couple, both aged 55, with high-paying jobs who are concerned about conservation. Grantors own marketable securities that cost them $50,000 and are currently worth $200,000.

They would like to reduce their income taxes and make a gift to a charitable conservation organization. If they sold the securities, income tax would be due on the gain at a 15 or 20 percent tax rate.

They details of this CRUT are as follows:

Trust Term: 20 years
Funding Amount: $200,000
Growth of Trust: 5.5%
Percentage Payout Rate: 5%
IRS Discount Rate: 3%
Initial Annual Amount to Grantors: $10,000 Paid Semi-Annually
Months Until First Payment: 0
Gift to Charity: $212,084
Income Tax Deduction: $72,267

And here’s one final example of a CRUT + Irrevocable Life Insurance Trust (ILIT):

Grantors are a married couple in their 70s who want to start liquidating some of their estate, reduce current taxes, and make a significant impact on local charities. They have $5.5 million in company stock with a cost basis of $1.8 million. Selling the stock would cost them approximately $900,000 in taxes.

Trust Term: life of grantors
Funding Amount: $5.5 Million
Initial Annual Amount to Grantor: $281,000 + growth
Income Tax Deduction: $3.3M
Used a portion of CRT income to purchase a $5M life insurance plan inside of an Irrevocable Life Insurance Trust
Used tax advantages to do significant Roth Conversions and start a gifting plan while they are living
Gift to Charity: $9,236,579
Increased estate to heirs (after taxes) by $2,741,116

Want to Set Up a Charitable Remainder Trust?

Many people can benefit from setting up either a CRAT or a CRUT. Here are a few things that could indicate a CRT would work for you:

You have no children or ultimate beneficiaries
You have no non-income-producing assets & want lifetime income
You have a very concentrated investment portfolio that lacks diversity
You have highly appreciated assets that have a low rate of return (like stocks, for example) or that cost money to maintain (like land or property)

If any of those sound like you, or you just want to learn more about this option, don’t hesitate to contact us. We’ve worked with a wide number of clients and a number of different types of CRTs. We can help you create and fund a trust that works for you, your beneficiaries, and your assets.

LPL Financial Representatives offer access to Trust Services through The Private Trust Company N.A., an affiliate of LPL Financial.